Friday, January 13, 2017

More Money Chasing Fewer Goods...

Economics can get confusing indeed, when neither monetary or fiscal policy is well positioned to provide sufficient economic stimulus. If neither appears necessary, does that mean an economy is already close to its "full potential"? If this be so, then why do so many problem areas and pockets of low labor force participation, remain?

While structural factors continue to inhibit the effectiveness of fiscal and monetary policy, it's not clear how they do so. Mostly evident, is the fact ordinary forms of stimulus are increasingly off the mark, given present circumstance. Supply side issues contribute to these problems in ways which leave many scratching their heads. Sure, the prospect of cronyism has become even stronger than before. But what, specifically, about favoritism, stands in the way of progress and long term growth?

Like the monetary inflation that central bankers are so determined to "destroy", cronyism contributes to its own internal form of inflation. In other words, pro business policy - as opposed to pro market policy - often leads to "more money chasing fewer goods" as well, with time based services and housing among the more egregious examples. If an already constrained marketplace weren't enough, recent suggestions for fiscal stimulus would likely be subject to monetary offset by the Fed, as Scott Sumner noted in a recent post.

Unfortunately, the Fed is not equipped to respond to what is essentially a real economy equivalent of monetary inflation. However, that does not mean a response is not needed. Why so? Over time, the real economy equivalent of more money chasing fewer goods (in spite of Fed inflation targets) begins to crowd out the marketplace options of our most productive sectors, particularly those associated with tradable sector manufacture. Yet the problem goes well beyond crowding out, for this process is occurring in terms of limits on primary market formation, or original wealth. Consequently, gradual losses in primary market representation, lead to gradual deflation, as secondary market crowding has to adjust to the gradual losses of primary market revenue which these sectors depend upon. The result is a gradual - but consistent - negative form of deflation.

Some of the retro trade policies presently being proposed in Washington, could also result in more money chasing fewer goods for tradable sectors as well. However, it is the long trajectory of NIMBY non tradable sector activity, which has constrained output (in product diversity) to such an extent the process now distorts general equilibrium conditions.

Structural problems can no longer be ignored, because disallowing inflation at the level of national economies is only making things worse. It is dangerous to assume that central bankers are actually capable of providing good deflation on behalf of their citizens. Good deflation is purely a real economy construct, and fortunately it is still possible to organize markets in ways that provide positive incentive for more output, instead of less. Without more marketplace choice, the present retreat to authoritarian "solutions" may only continue.